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US growth is expected at 2.9% on average in 2018. This corresponds to a growth rate of 0.7/0.8% in Q4 (non-annualized figures). This view is consensual, as is the consensual perceived robustness of the economy and the slowdown to an average growth of 2.5% in 2019.Making all of these elements compatible is interesting. If the 2.9% of 2018 is ok (with 0.8% in Q4), it is necessary to think about 2019. The average quarterly growth rate needed to converge to 2.5% is 0.5% (non annualized) The slowdown in the US economy is strong from the very beginning of the year. This figure must be compared to 0.8% which is the average quarterly growth in 2018. The assumption of maintaining robust growth in the first half of 2019 (0.8% per quarter) implies a rapid decline from the summer. Convergence to 2.5% implies a contraction of -0.2% per quarter from the summer. If growth is robust at the beginning of 2019, then to be compatible with the consensus forecasts, it will take a break from the summer

During the first quarter, growth was robust in the US and in Spain, slightly lower than expected in France and weaker than anticipated in the United Kingdom.The first graph shows the GDP quarterly change since 2015, the annual average growth for the last 3 years and the carryover growth for 2018 at the end of the first quarter.

The US growth was, for the first quarter, at the same level than the 2017 average at 2.3% Nevertheless, the figure is slightly lower than the last three quarters of 2017. The impact of the strong fiscal policy is not seen yet in these numbers. The carry over growth for 2018 is at 1.7%.
The 2.2% trend seen since the beginning of 2011 is still the framework for the US growth dynamics. (see the graph on the French version of this post)
In Spain, growth figures are strong since the beginning of 2014 even if the momentum has been a little lower for the last three quarters. The trend is almost linear at 3.2% since 2014. The carryover growth for 2018 is 1.8%
In France, growth was just 0.3% (non annualized) after 0.7% during the last 3 months of 2017. In fact the first quarter figure is just a correction after the 2017 non-sustainable path for the French economy. The current trend (since 2013) is 1.3% for France, therefore 2% was too much to be sustainable. I maintain my growth forecast at 2%.
The carryover growth for 2018 is 1.2% at the end of the first quarter.
In the UK, the trend is clearly weaker since the Brexit referendum. The second graph shows the real GDP level and the trend calculated from 2014 to Q2 2016 (the referendum was on June 23). We see that there is a huge and enlarging gap between the trend and the real GDP profile. It is the cost associated with the Brexit decision. There is no reason to see a reversal in this gap. The carryover growth for 2018 is 0.7%.

Explanation : a more limited dynamics of business investment and a marginal contraction of exports. This is consistent with the inflection seen recently in the surveys.

My expectations for 2018 is 0.4% on average per quarter. The first quarter is consistent with this. The main point to look at will be surveys during this spring. But April was not a good start. See here

The French GDP growth in 2017 has accelerated to 1.9% on average after 1.1% in 2016. The quarterly sequence of the GDP expansion was steady at 0.6% per quarter except 0.5% in the third quarter.
The carryover growth for 2018 at the end of 2017 is 0.9% which slightly higher than a year ago. At the end of 2016 it was at 0.4% for 2017. The effort that has to be done to converge to 2% in 2018 on average will be lower than in 2017. It is just a 0.42% increase per quarter (versus 0.58% in 2017).
The very positive part of the fourth quarter report was the strength of corporate investment.

The government budget for 2018 has been defined with a 1.7% growth (or 0.33% per quarter). This means that we can expect higher receipts compared to what was forecasted. The government credibility will be measured by its ability to use these extra receipts to reduce expenditures not to increase them. In the past these type of temporary receipts were systematically spent in permanent expenditures leading to a persistent budget deficit. We can expect a different strategy from the president Macron.

A reduction in expenditures and therefore lower demand would be consistent with what we currently perceive on the business cycle. A recent survey has shown that it was quite impossible for companies to increase their production. The production capacity utilization rate is at a peak, production bottlenecks are growing and there are difficulties in hiring.
With these constraints in mind, a boost in demand through higher government expenditures would be a mistake. The target is to reduce these constraints through incentives on investment (through public investment) and education. That will be the main government task in 2018.

The graph below shows that the current growth trend is slightly lower than before the 2008 crisis. It means that there will be no catching up and that the cost of the crisis is permanent. The gap between the current GDP level and the trend from 2000 to 2008 is -8%. The GDP level would have been 8% higher without the crisis. This is quite big and this gap will widen in coming years as I do not expect a catchup of growth.

The Euro Area (EA) economy is now following a robust growth trend. It has started in 2013 and in 2016 and 2017 the EA GDP growth will be higher than in the US. On the graph, on the right it can be seen that there are little fluctuations in the current growth trajectory.
This reflects a less restrictive fiscal policy at the EA level in reversal to what was seen at the beginning of the decade. Fiscal policy was too tight in 2011 to 2013 and pushed the economy into a deep and prolonged recession from mid-2011 to the end of 2012. A more neutral fiscal policy helps to improve its predictability and to reduce uncertainty for the private sector.
After summer 2012 the ECB has adopted a very accommodative monetary regime. Interest rate converged to 0% for the refi rate and after 2014 there were two operations bringing liquidity to the financial and banking sector and to financial markets. On one side there was a temporary exchange of assets (4 year period) which targeted the banking sector (LTRO). The recovery was possible only with a strong and robust banking sector. In the fall of 2017 the banking sector is stronger even in Italy where we were all worried. And there was an asset purchases operation in order to push down interest rates. The QE operation is the purchase of a large amount of sovereign debt (EUR 60bn per month since April 2017) and of corporate debt.

The ECB target is to reduce incentives for the private sector to postpone their expenditures. With very low interest rates the incentive to transfer wealth through time is low. Cash remains on banking account and people and companies spend more. This can be seen on the graph with the recovery on private demand after 2013.
The recovery is domestically oriented even it has taken advantage of a stronger external environment notably since the beginning of 2017 with the renewed growth in world trade.
Since 2014 companies and households face a neutral fiscal policy and a very accommodative monetary policy while the oil price is not expensive and the lack of inflation everywhere in the world (except Brazil and Russia) brought low interest rates easing a global recovery.
Since this date companies and households optimize their behavior subject to their own constraints and not on economic policy measures and their volatility. Therefore we assist at a catchup in employment and in corporate investment. Since the beginning of 2013 more than 6.6 million jobs have been created.

Fiscal policies are expected to remain neutral at least and Mario Draghi clearly wants to see a robust and long lasting improvement of the European situation before changing its monetary policy stance. These commitments are strong

The other point to mention is that this recovery can be seen in almost every country of the Euro Area. This can be seen on the graph which shows Markit survey for the manufacturing sector until August 2017.
Every country is above the threshold of 50, even Greece. France which was lagging Germany has now converged to the European average.
The important issue here is that Euro Area countries trade a lot one with each other. Therefore the improvement in domestic activity is a source of impulse to intra EU trade which creates a stronger momentum. Other things being equal, the current recovery will continue in 2018.

Imbalances has been reduced: the budget deficit in the Euro Area for the first quarter of 2017 was just below 1% (0.9%) and the rapid growth expected for this year (2.2% in 2017) and next year (2% in 2018) will again reduce the level of the budget deficit. I make a digression here by saying that with lower public deficits, governments will issue fewer bonds therefore the ECB will be able to reduce its asset purchases program but will still have a downside impact on interest rates. The spread between issuances and purchases will remain negative as in 2017 even if the ECB program is reduced. That’s not a tapering in the form seen in the US.
Another important reduction of imbalances is seen on current account. At the peak of the crisis, Spain, Italy and some others had large current account deficit. This is no longer the case. Nevertheless Germany and the Netherlands still have large surplus. This explains the large current account surplus of the Eurozone (almost 3% of GDP).
This means that the contagion risk of a negative shock from a country to another is now very limited. Nevertheless the counterpart of the current situation is flows of capital to Germany and still negative in Spain and Italy. But this situation reflects more what was seen a few years ago than now. In other words, financial imbalances have not been totally rebalanced.

What can we expect?

The current growth momentum is robust with a strong catch up in employment and corporate investment. This will improve income and productivity and will extend the current virtuous cycle. We expect 2.2% GDP growth this year and 2% next year. It is a little above potential growth. The main target on economic policy will be to improve this potential growth. That’s why we expect a neutral fiscal policy in order to avoid change in expectations in a period where private momentum is sufficiently strong to drive the cycle. On the monetary side we expect that the ECB will maintain its interest rates at the current very low level (0% for the refi rate and -0.4% for the deposit facility rate) until at least 2019 and that the QE will be extended to 2018. The ECB will purchase less than in 2017 with EUR 40bn each month versus 60 in 2017. If the cycle remains virtuous we can expect a reduction of this amount at mid-year and a stop at the end of 2018 or at the beginning of 2019. The ECB said it will maintain its interest rates at the current level long after the end of the QE. That’s the reason we do not expect a move before the end of 2019. Moreover the ECB inflation forecasts at 1.5% are still below the 2% target in 2019: no reason to hurry in the monetary policy normalization.
Structural reforms have been put in place in France on the labor market. The objective is to improve the labor market reaction at the beginning of the recovery. We expect more in France notably on the retirement scheme.

The exchange rate will remain high and probably higher than what is currently observed. This comes from 2 explanations: 1 – expectations on European institutions are now positive – The association of Angela Merkel and Emmanuel Macron will improve them reinforcing the positive perception that Europeans have on this institutional construction. 2 – The Euro Area is now perceived as a financial stability area as the US and UK are perceived as risky.

Until now the impact of the high euro has been negligible as the growth momentum sources are domestic. But this will change in the future. The ECB wants to smooth the transition and that’s also a reason for a very accommodative monetary policy for long.

Written on September the 19th (a graph has been updated with data published on the 23rd)